What is Shadow Inventory?

Shadow inventory is a term used to describe real estate properties that are undergoing or have undergone foreclosure and are currently unoccupied. Assets of this type are typically awarded to the banks or other financial institutions that issue commercial or home mortgages. Once the foreclosure process is complete, the institutions take steps to sell those properties and recoup at least a portion of their investment. This sometimes involves arranging new mortgages with buyers at subprime rates.

As part of ongoing inventory management, the owners of shadow inventory try to sell the foreclosed properties as quickly as possible. This is because in the interim there is a need to spend time and money maintaining foreclosed properties so they will draw the interest of prospective buyers. Over time, the costs associated with lawn care and general upkeep can add up to a substantial sum, which further decreases the possibility of offsetting the losses that occurred when the original mortgagee defaulted.

In addition, shadow inventory is more susceptible to damage due to burglaries than homes that are currently occupied. Individuals who choose to take up residence in foreclosed homes, sometimes known as squatters, may also cause damage to carpeting, plumbing, wiring, and other major components of the property, making it necessary to replace and repair those components in order to sell the home at an equitable price. By attempting to sell the property before situations of this type can develop, banks and other institutions limit their liability while maximizing the potential for obtaining a higher sale price.

To stimulate interest in shadow inventory, financial institutions may employ a number of different strategies. One approach is to keep current customers aware of the acquisition of recently foreclosed properties and provide them with the chance to purchase those properties at attractive prices. Another common method is to sell the properties at a property auction, where all bidders must have pre-arranged financing in order to participate in the bidding process. Many institutions will also work with realtors as a means of alerting the general public to the availability of the foreclosed properties.

The presence of an inordinately high shadow inventory is one of several indicators that the economy within a community is undergoing some type of hardship. In situations where institutions across a nation are currently holding inventories that are significantly higher than normal, the chances that an economic recession or depression has taken place. Just as a high shadow inventory indicates an unhealthy inventory, the steady reduction of that inventory is often regarded as a sign of economic recovery, since more consumers are willing to enter into major purchases like owning a home.